Surprising Applications of the Franchise Practices Act
New Jersey Business Magazine
Retailers and the manufacturers and distributors who supply them with goods typically operate under the assumption that their transactions are governed by the contracts of sale or other written agreements they execute as part of their business dealings. If they give any consideration to how New Jersey law might alter or govern their transactions, they usually focus on Article II of the Uniform Commercial Code (UCC), which governs the sale of goods. However, New Jersey’s Franchise Practices Act (FPA) may impose obligations on the distributor or manufacturer it did not anticipate, and may provide retailers with protections of which they were not aware.
The FPA was adopted in the early 1970s largely to protect franchisees from the aggressive tactics of franchisors, who typically have the superior bargaining power in the franchise relationship. For example, if McDonald’s could simply terminate any franchisee at will, the franchisee would be unable to object to anything McDonald’s did, notwithstanding that the franchisee would have invested substantial sums to establish its business by decorating the restaurant with McDonald’s proprietary design and installing the 20-foot tall “golden arches” outside its store. Thus, given the significant fees and startup costs typically dictated by a franchisor, the FPA provides that a franchisor generally cannot terminate the franchise relationship without cause.
All of this sounds simple enough, until you review the definition of franchise in the FPA and look at how the act has been applied. Specifically, the FPA provides that a franchise exists if three criteria are met: 1) the franchisee’s place of business is in New Jersey, 2) the franchisee has sales of over $35,000 from the relationship, and, most importantly, 3) 20 percent of the franchisee’s gross sales are “intended to be or are derived from” the relationship. Moreover, the FPA has been held to apply even where the parties specifically disclaim or waive its existence and even where the parties agree that another state’s law governs the parties’ relationship.
As a result, if your business depends upon the flow of goods from a few key suppliers, those suppliers – if their products account for 20 percent of your gross sales – may be considered franchisors under the FPA, making it difficult for those suppliers to abruptly or arbitrarily end the relationship without cause. Conversely, if your business is the one that does the supplying, careful attention should be paid to how reliant your customers are on your goods, especially when you may wish to end the relationship. The world of high-end or luxury retail goods provides a useful example of how this might work. Let’s say, for example, that you sell high-end women’s dresses from a well-known designer and that although you sell other merchandise from other manufacturers, your store is known for its ability to carry this particular designer’s goods. Even if your agreement requires application of another state’s law, and disclaims application of the FPA, so long as your business meets the three criteria set forth above, the designer cannot simply call you out of the blue and end the relationship, even if your contract provides otherwise. Assuming your agreement with the designer does not prevent it, the designer is still free to change the business terms of your relationship or end the relationship altogether if you default under the terms of the agreement or commit some kind of wrongdoing.
Conversely, if you are the designer who does business with many different retailers, and you decide that you want to reduce your number of retail outlets, you may have unexpected difficulty in ending your relationship with a particular retailer specializing in the sale of your goods. If the retailer knows his rights under the FPA, even if your contract disclaims the existence of a franchise, or gives the designer the right to walk away, the FPA may require the designer to continue to do business with the retailer.
A little knowledge of the FPA goes a long way in helping franchises and suppliers prepare for any pitfalls down the road.
Daniel D. Barnes is an associate focusing on commercial and general litigation matters at Wolff & Samson PC of West Orange, New Jersey. He can be reached by phone at (973)530-2097 or by email at: email@example.com.
Reprinted with permission from New Jersey Business magazine.